Makes you think a little… ABC reported the following for the end of its fiscal year: Revenues = $40.8 million. Pretax income = $8.6 million. Assets = $53.2 million. Liabilities = $27.8 million. Dividends per share = $0.35. Shares outstanding = 8 million. Tax rate = 35%. The beta for ABC is 1.2, the current risk-free rate is 4.5%, and the expected return on the market is 12.5%. What is the value of the shares using a single-stage residual income model? A) $23.23. B) $8.10. C) $11.28
A? I got book value to $11.29 r = .141 1.2(12.5 - 4.5) + 4.5 net income i got the 8.6mm(1-.35) = 5.59mm div/shr x shrs = 2.8mm/5.59mm = .5 as payout, .5 retention rate i went NI/equity for ROE, got equity as A - L, so 53.2 - 27.8 = 5.59/25.4 = 22% i got g = .5 x .22 = .11 so this is where i go off track maybe- i went for BV to = .35/.141 - .11 = $11.29/shr maybe that’s not a good thing for me to do? then i went 11.29 + 11.29(.22 - .141/.141 - .11) = $40.06… crap i went off of the tracks. I would guess A regardless… but crap let me go back to the drawing board. RI = not my best at all subject.
I’m getting $71.55. I’m calculating a retention ratio of .5 and an ROE of .22 which gives me a growth rate of 11%. Net income (after taxes) is 5.59MM, and the charge on the equity is 14.1% (CAPM) multiplied by the equity amount (assets - liabilities) of 25.4MM, resulting in a total residual income of 5.59 - 3.58 = 2.0086. Multiply this by the growth rate and then divide by the difference between the 14% required rate and 10% growth rate and that’s where I get my answer. Who can tell me where I’m going wrong?
I am getting RI = 2.008m but don’t find Book value. I am missing something here.
V= Bo+ ((Roe-r)*Bo / r-g)
Lol, until Miss Bannisja mentioned book value I totally forgot that it was in the residual income formula; also looks like we both got to about the same place before getting lost. I’m looking up the formula now.
I have C
true skillionaire. We can find ROE but we need book value to take a step further.
You only get credit if you show your work - anyone help us out here?
McHigi Wrote: ------------------------------------------------------- > I have C Show your calc
@Book Value: You have Assets and Liabilities given so: Assets minus Liabilities = Equity Equity/Shares = BV per share
It’s C…I’ll be back in a minute with the calc.
cfaboston28 Wrote: ------------------------------------------------------- > McHigi Wrote: > -------------------------------------------------- > ----- > > I have C > > > Show your calc I used the formula posted by cfabosten Iputs: r = 14.1% g = 11% BV per Share = 3.175 ROE = 22%
equity is 25.4m/8 shares then 3.175 3.175 + ((22-14.1)*3.175/14.1-11 yep it’s c. Thanks higi Edit: good job lurker. Higi, you should post often!
Your answer: C was correct! After tax earnings = Pretax earnings × (1 − T) = 8.6 million × (1 − 0.35) = $5.59 million EPS = After tax earnings/shares outstanding = $5.59 million / 8 million = $0.70 Retention ratio = (0.70 − 0.35) / 0.70 = 0.50 or 50% Equity = Assets − liabilities = $53.2 million − $27.8 million = $25.4 million Book value per share = Total equity/shares outstanding = $25.4 million / 8 million = $3.18 ROE = $0.70 / $3.18 = 0.22 or 22% g = retention ratio × ROE = (0.50) × 0.22 = 0.11 or 11.00% Expected return = 0.045 + [0.125 − 0.045]1.2 = 0.1410 or 14.10 % 3.18+((.22-.141)/.141-.11)*3.18 = 11.28
change my answer to C! BV = NI/ROE (duh), so 5.59/.22 = 25.4 / 8 mil shrs = 3.176136 3.176136 + 3.176136 ( .22 - .141/.141 - .11) = 11.28. whammy. i knew i could do this. thank you for the AM exercise.
Nice job banni and others. I’ve got a long way to go, but plenty of time. I’ll post questions throughout the day. I’ve gotta take advantage of every free minute (as we all do).
I just did the RI q’s in the CFAI text this past weekend. skipped maybe 3 of the q’s b/c they were RIDICULOUSLY long- like calc out 8 yrs of RI. I would strongly suggest blocking off 2 hrs and doing the same- these ones were very helpful. RI is not my strongest area, but I think I can get where I need to get now on most of the more basic q’s that come w/o nutty curveballs. by all means, though, post up all of the RI q’s you see. this stuff is easily tested and it’s so easy to miss something dumb like me forgetting how to get BV from ROE and NI or forgetting to subtract an interest payment if you have EBIT and they give you debt and Rd (i did this on last year’s exam and that question haunts me), etc…
I did these probs yesterday and yes they clear all basic things but they are just very long with no multiple options.
Comment: RI model only measures return to equity holders and therefore should use cost of equity and not wacc. Not sure why we’re given values to compute wacc here instead of the cost of equity…